Cost management

In a seminar organised by AEB, “How to build a manufacturing plant in Russia”, group of experienced and licensed project managers, discussed about the challenges in Russian projects. Main points from their presentations regarding cost management was that in Russian projects the contingency reserves need to be at least three times higher than in normal projects outside of Russia. This is due very un-predicted extra costs that can come from state/local authorities, land owners, energy companies and other stakeholders. It is important to allocate this money already in the feasibility phase of the project due during execution of the project the funding is many times more difficult. Such costs cannot be predicted precisely and there is no exact rule how to manage these except to prepare certain cost reserve. Russia has few special economical zones which have more structured way to support investments but in biggest part of Russia the extra costs are occurred from local factors and circumstances. The budget risks can be significantly reduced by investing to these special zones. The interviewed experts also shared the view that the contingency reserves should be much higher than in normal projects, even 10 % of the total investment sum was mentioned. Experts mentioned that reserve money is needed mainly for bribes, authorities, energy permits and contracts, partners, suppliers and change orders just to mention few. (AEB, 2011)

Same experts in the AEB seminar also explained that corruption is still one of the characteristics that can’t be avoided in Russian projects or when doing business in Russia. The group gave stunning report that none of the projects they had managed in Russia (total of 100+) was succeeded without corruption. This same unpleasant issue

was also discussed in the global finance forum in St. Petersburg where the global investors were asked to mark biggest challenges in investing to Russia. 45 % of the investors marked corruption as the number one challenge in Russia. Corruption is not only a problem for businesses, its everyday problem for Russian citizens too. A study made by economic ministry of Russia revealed that half of the Russian population has been to a situation that a bribe was needed to solve a problem or situation. Half of the people answering the survey also knew when this behaviour is expected and how to react. Common bribery situations in everyday life are at hospitals, getting to a university or kindergarten etc. In business environment most popular answer for bribery was to authorities (tax, construction, permits, energy etc) and land registrations. In a book by Suorsalo et al. it is mentioned that in business the average bribe, in 2007, to be paid to authorities was 135 000 dollars as in the beginning of the decade it was “only” 10 000 $. In the same context the writers say that in business life 47 % of Russian businessmen admit using bribes as a way to improve the business and project success and 50 % of the respondents see it acceptable. In a seminar by world economic forum it was discussed that the corruption still undermine the business and economic development in Russia and fighting corruption requires cooperation among business, government and civil society. Some positive signs are still there as the Russian government has tried to fight against the corruption under President Dmitry Medvedev and has been taking several steps to fight corruption such signing OECD anti-bribery convention in May 2011. The results remain still to be seen. (AEB, 2011, Finnish embassy newsletter, 9-23.6.2011, Suorsalo et al, p.125, 2007, WEF, 2011)

Expert interviews also reveal the importance of the cost management. Many of the experts suggest hiring one or two specialist to handle the cash flows and “extra expenses”. One financial director explained that budgeting in general is not common in Russia as Western companies see it. Five year plans or similar company initiative are not seen valuable as companies do not look that far in their business operations.

This expert should know Russian law, Russian tax - and financing rules and handle all money transactions. One managing director explained that the one biggest reason for budget increases is the fact Russians want to save money in a short run and choose the cheapest suppliers etc. There are often own interests involved and money transfers can differ a lot from what is reported. This will evidently, in Western higher quality

projects, leads to bad quality and ultimately to higher costs. As 80 % of the budget is fixed already in planning phase, such changes during execution phase will be costly and time consuming. Russians live in a moment and still even the bigger Russian international companies do not want to invest for longer period and tend to prefer getting only short wins. One director explained that this fact alone will make sure that Russia can never compete in foreign investments with China, as investors are often looking the long term benefits when entering the new markets.

Russian rubble is often the only currency to be used in all money transactions inside Russia. Rubble fluctuation needs to be calculated carefully when making the business case calculation. Having rubbles in cash is also often a must which then requires the project team to be responsible of the safety of the money as well as getting proper invoices when the money is spent. The inflation is also a huge factor to be considered as the inflation in Russia has been in a level of 8-10 % annually. Experts say that many projects, due to delays, have been forced to stop as the inflation has eaten the original investment funds. One interesting fact from construction business was that often the projects are only partly invested and covered as the Russian’s tend to receive more investment funds during the project execution by either finding customers or new investors. Such behaviour is risky for Western companies as investment decisions need to be based on existing funds. There are examples of projects where the project has been started and ended due lack of investment money from Russians.

Case project

Observations from the case project also reveals the facts that cost management is very vital and challenging part of Russian projects and needs special attention especially during planning phase of the project as then it is still possible to affect many budget decisions! The contingency reserve needs to be a lot higher than in normal projects and the management need to be aware of the possible occurring costs and risks involved. Best way to calculate correct budget and amount of contingency is to use experts from the business area and from the same Russian region where company is investing and use their knowledge already during the feasibility phase of the project.

Investing to reliable consultants and spending few extra dollars in this phase will definitely bring the money back during project execution. By doing this, companies

might even prevent themselves for making the investment or at least get the facts correct where and how the budget is calculated. This same fact was explained also in an article about Finnish companies performing in Russia that they have had to hire special Russian experts to handle their taxation and invoices to meet local standards as those differ a lot from Finnish way of working and as cost management is so vital part of success. (Tietoviikko internet page, 2011)

The budget calculation should be done together with the Russian counter partners as the budget can be as detailed and accurately done, but will gain no trust, if the Russian side is not consulted. Russian companies tend to have very strict internal procedures for cash transfers and approving invoices. The finance division and top managers are the only instances, who can actually give any comments to budget or money related issues. Therefore in many fast needed decisions within the project team can’t be done relating money, if the decisions need to be done from the top each time. In general Russian companies are very strict and professional with the money and do understand the cash flow, productivity and payback calculations as Finns do. The biggest difference is the fact that Russians value money more in a short run and do not want to invest for long payback time projects easily. In a large multimillion euro projects, such the case project, the budget need to be calculated also for the anticipated inflation rates as it eats currently 10 % of the invested funds per annum.

One fact about using of PMI tools and techniques in Russian projects is that no such tools should/can be used at least with Russian partners. Project manager can report with such tool to Finnish management and within Finnish team members, but not to external Russian stakeholders or team members. Cost baselines, budget at completion or earned value calculations do not give any value for Russians and often just brings extra confusion to the team. Russian companies stick to the idea having separate divisions for each discipline so often the project team members are not allowed to discuss about the money issues at all. This of course slows the decision making and forces Finnish project team to push extra effort to external stakeholders.

Literature

One interesting feature from SVKK was the fact that almost 30 % of all money cash flows in Russia are still cash based. Project team needs to find a way how to have certain amount of cash available for such suppliers and explain the facts to the Western management why such procedure is to be used. (SVKK, p.81, 2009)

In an article of Liberzon et al the writers claim that nearly all phases of project management differ from PMI theory especially in design and procurement. Writers refer to specific Russian reference books that define clearly expected amounts for cost components (manpower, material and equipment cost) and resource usage. Due to high inflation rate the cost estimates need to be updated quarterly which then leads budget recalculation and adjusting the cost baseline. This differs quite a lot from the PMI theory as the cost baseline should remain the same and the changes to be monitored against it. Writers claim also that all project budgets should be calculated using actual cost of material units, resource work hours and other expenses. He writes that Russian project managers often wonder how their Western colleagues can manage their projects without using physical values (tons, meters, quantities, etc.).

According to Russian PMI chapter also the usage of project resources varies at the different project phases and the forecasting that accounts for these differences is considerably more accurate than the methods of earned value analysis which is often proposed by PMI to be the main tool to be used. The big difference to normal Western project environment is that in many projects such data is not available and need to be estimated by the project team case by case. Such way of working reflects to Russian construction business where it is still very common that some specialised company pre-calculate all costs for the project before bidding process so there will be no discussion about the price as it is pre-determined. This calculation is called SMETA and is still widely used in all businesses in Russia. Nyberg criticises in his article the Russian outdated norms and standards, especially the GOST standard, as it is in many projects causing problems as new technology can’t be applied due the fact that GOST norms is old. (Liberzon et al, 2010, Nyberg, p. 2, 2010)

3.4 Human resource management